*The prior version of this note was sent in error
As we wrote previously http://app.hedgeye.com/feed_items/53543, we thought a logical expectation, given the relative multiples and investor interest, was a modest premium for AGU relative to POT. Judging by the market’s reaction to this morning’s news, the reappraisal of the combined entity as less Retail more Wholesale was not convincingly offset by the proposed synergies and other deal benefits. Below we offer a few considerations that may be of interest as we learn more about the planned merger over the coming months:
- End Markets and pending results in retail may be weaker given deal terms
Is it possible that Agrium was willing to do a not-so-accretive deal to change the narrative ahead of weaker results? While a merger process may create a bit of a distraction, stress on North American Ag. is increasingly severe. Both companies are looking at potential margin pressure into 2017 just based on current crop prices and grower input costs.
- We believe in some of the identified synergies but are curious to see what unfolds from an antitrust standpoint, since remedies could create offsetting dis-synergies
We expect the final terms to vary from the initial release to accommodate regulatory concerns, if the deal closes. More likely, in our view, is that the merger is blocked per our earlier note "AGU + POT | Farm Misery & Antitrust Hurdles" http://app.hedgeye.com/feed_items/53463. Specifically, the combined entity’s pending control of North American distribution channels will likely raise red flags for regulators - AGU’s Retail segment complicates the merger review process. If regulators view distribution as a price + margin business, there would be limited incentive for Agrium to pressure the market with lower prices. Again, believe it or not, mergers in concentrated industries with existing cartel-like relationships can be problematic in antitrust reviews.
- By shifting away from its retail identity without a premium, AGU is taking on risk and disappointing some shareholders to get wholesale assets
The perceived stability of AGU’s retail margins on a go-forward basis have been treated very favorably by equity markets. The merger is a divergence from AGU’s North American retail-focused strategy without a straightforward offsetting benefit. AGU management is comparatively competent, in our view, and we will be interested to understand their agreement to deal terms likely to disappoint Retail-focused shareholders.
With the deal terms risk now past, we will add AGU back to Best Ideas. We have several pending catalysts, including a potential merger rejection on antitrust grounds, an expectation for continued pressure on N.A. Retail margins, and likely input spending cuts an increasingly stress agricultural sector.